In a move that is expected to send shockwaves throughout world markets and particularly through the euro zone, Standard and Poor’s (S&P), the credit rating agency, downgraded Italy’s long-term credit rating to A from A-plus and cut its short-term rating to A-1 from A-1-plus with a negative outlook. The downgrade caught the financial world by surprise as a credit rating was primarily expected from the rating agency Moody’s which had announced last week that it had put Italy’s credit rating under review.

S&P’s sighted ‘political’ and ‘debt’ scores as the primary reason for the downgrade as per the agency’s sovereign ratings criteria. Furthermore, the agency’s rating reflected the view that the ‘fragile governing coalition and policy differences within parliament will likely continue to limit the government’s ability to respond decisively to the challenging domestic and external macroeconomic environment.’

Measures adopted by the Italian government, particularly the fiscal austerity program and tightening financial conditions have been rejected by S&P as reliable conditions for the rebounding of economic performance. The rating agency outlines three main reasons for their reduced expectations for the growth of the Italian economy: ‘low labor participation rates and tightly regulated labor and services markets; what we consider to be an inefficient public sector; and relatively modest foreign investment inflows.’ S&P also stated that it has lowered its outlook for Italy’s annual average growth to 0.7 percent for 2011 to 2014, from a prior projection of 1.3 percent.

Borrowing costs are predicted to rise for the Italian economy. A scenario as such would further cause the situation to deteriorate as the nation is about to initiate a refinancing program of  nearly 30 billion euros (USD 41.3 billion) of gross bond issuance in October and November, according to Boris Schlossberg, director of currency research at GFT. A bailout for Italy would drain the euro zone’s resources placing the entire region in turmoil. In addition, the fear of contagion is becoming clearly visible as the anticipation of a Greek default on French banks is continuing to rise.

The IMF has stressed the need for Europe ‘to get its act together’ and work towards resolving the debt crisis. Furthermore, the IMF warns that if a proper road map for recovery is not planned and executed, global expansion will be at stake and these economies could ‘tip back into recession.’